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  • CFE - Office_150

    By David Adu-Boateng DBA, CISA, CPA, Full-Time Faculty, Kaplan University 
    Published December 2015 

    Implementation of Activity-Based Costing (ABC) can be overwhelming to managers. Some of the problems include information expansion that overwhelmingly exceeds the capacity of databases and applications, the difficulty of capturing complex operations, the lengthy implementation time, and the arduous and complex task of identifying and classifying cost drivers. The difficulties associated with implementing and maintaining ABC systems discourages a wider adoption by companies.

    ABC took center stage in the 1990s when private organizations realized the importance of finding a better technique for managing cost. It was widely recognized by managers that the traditional costing approach did not accurately report product and service costs, and did not provide an efficient way for reducing costs and optimizing profits. The failing of traditional costing was attributed primarily to organizations having a functional view of performance. Managers, therefore, embraced ABC as the savior to their costing woes, as ABC enabled many companies to identify significant cost and profit enhancement opportunities.

    In spite of the challenges of implementing ABC, ABC system is being resurrected and therefore triggers the importance of re-evaluating the cost and benefit of its implementation. It is widely accepted that cost-driver selection is the most debilitating problem associated with ABC implementation. Additionally, the opportunity for cost savings is a significant by-product of ABC implementation. It is therefore imperative to examine the relationship between the effective selection of cost drivers and cost reduction opportunities when implementing ABC.

    The accuracy in selecting cost drivers must be traded off against the complexity of an ABC system, and a high accuracy in allocating overhead costs often requires a high number of cost drivers, whiles a small number of cost drivers is desirable in achieving an information load that is bearable in cost and ease of use. One can safely assert that cost reduction opportunities only come with effective selection of cost drivers.

    The dilemma faced by a prospective ABC implementer who is motivated by cost reduction possibilities is whether cost reductions would compensate for the high cost of accurately identifying cost drivers. It is expected that companies would implement measures that can lead to cost reduction opportunities and maximize implementation benefits. Does your ABC implementation determine whether effective selection of cost drivers lead to cost reduction opportunities and justify the prohibitive process of effectively selecting cost drivers? Below provides a sample questionnaire for optimizing the benefits from your cost driver selection.

    Determination of Effective Cost Driver Selection

    • Are cost drivers frequently updated?
    • Is achieving a small number of cost drivers the overriding factor in cost driver selection?
    • Do resource constraints prevent your company from selecting the right cost drivers?
    • Are steps taken to determine the characteristics of cost drivers before they are selected?
    • Is cost driver selection based on the most readily available cost driver information?
    • Does your implementation team have cross-functional representation?
    • Are conceptual and transactional data collected?
    • Are the cost drivers activity drivers or usage-based drivers?

      

     David Adu-Boateng DBA, CISA, CPA is a faculty member at Kaplan University. The views expressed in this article are solely those of the author and do not represent the view of Kaplan University.

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